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Budget brawls cost United States billions

The insolvency of the world's largest economy was avoided in the 11th hour. And despite a multi-billion dollar price tag and a drop international confidence, the same disputes may flare up again in just three months.

US-Haushaltsstreit Dollar-Notenpresse

Once again the media predicted the end of the world if the Democrats and the Republicans could not find a solution to the US budget dispute. Financial markets, however, were much more relaxed and staged a minor rally, assuming an agreement would be made.

"The financial markets acted on the assumption that Washington would reach an agreement at the last minute, as always happened in recent years," said Bernd Weidensteiner, a US expert at Commerzbank. "It turns out that the assessment was well founded."

Standard & Poor's rating agency estimated that the damage of the two-week-long federal government shutdown will amount to $24 billion (18 billion euros). Weidensteiner said he expects negative effects on economic growth as well. "Growth in the fourth quarter will be weaker," he said. "Most assume that growth will drop by 0.2 to 0.5 percent. But in the next quarter it will make it up."

It is hard to estimate to what extent the political insecurity will have effects on the investors, the analyst added. But it is clear political damage has occurred, according to Jörg Rocholl, president of the European School of Management and Technology (ESMT).

"There has definitely been a loss of confidence in the Americans' ability to take action," he said. "You realize that there are intense political conflicts that make it impossible to raise the debt ceiling."

So far policymakers have always reached a last-minute agreement, "but it raises the question of whether this will always be the case," Rocholl told public broadcaster ZDF, adding that delaying a decision until early next year does not solve the problem.

Spending on borrowed time

The financial deal, which was reached late Wednesday (16.10.2013), merely gained lawmakers a few more weeks to pass a budget. The interim budget will expire on January 15 and the increased debt ceiling will be reached on February 7.

America's mountain of debt already exceeds its economic performance. But Bernd Weidensteiner said putting an end to the deficit can only be a long-term goal: "The fact is that you cannot stop incurring debts from one day to another. That would be too much of a burden for the economy and lead to a massive disaster." Instead, he added, it has to be accomplished via a slow withdrawal. "It will take several years, but the deficit already dropped quite a bit," said Weidensteiner.

US in a better position than Europe

The United States cut its deficit nearly from 13 percent of its economic performance in 2009 to 7 percent this year. Despite the progress made, with a deficit rate of 7 percent and a debt ratio of 100 percent, the United States budget would fail criteria established in the eurozone.

It is thanks to the Federal Reserve that no one believes the dollar will collapse. "'The Fed in buys massive amounts of US government bonds so there is an additional key player on the market that does not currently exist in Europe," said Rocholl.

The United States also profits from the US dollar retaining its status as the global key currency. As long as it maintains this position, demand for US bonds will not dry up. According to Weidensteiner there is also another reason why the US will successfully solve its debt problem: "Economic growth in the US is much higher than in the eurozone's average. Americans have always managed to reduce their deficits and have done it without the major problems seen in Europe."

Ultimately, the American government needs to find a combination of spending cuts and boosting revenues, Weidensteiner said. Rocholl said the US invent a debt brake similar to what exists in Germany, where as of 2016 the government will not allowed to take on additional debts.

"The debt brake would be reasonable for the US because they would get away from talking about debts in general," Rocholl said, adding that focus would instead be placed on the annual deficit. "That would probably bring more discipline to strive for ways to consolidate the budget."